Thursday, July 15, 2010

A Times of India Article (Mon, June,28)-------------------------------------------------------------------------------

After an aborted attempt by the NDA regime in 2002 to deregulate fuel prices, the UPA administration has finally bitten the bullet and moved on implementing the Parikh committee recommendations. True, this is still a first step. While petrol price has now been pegged to the international market, diesel remains partly controlled and LPG and kerosene wholly so. But given the price hikes across the board and the planned deregulation of diesel that is to be implemented in phases it is a crucial one. The first beneficiaries will be state-run oil companies with under-recoveries dropping from Rs 770 billion to Rs 530 billion. But the ripple effect will, in actuality, spread far beyond that with benefits accruing to consumers in the long term. The challenge now is for the government to stand firm against the inevitable political backlash and populist demands.

Given that inflation is as much a function of perception as actual inflationary pressure, a short-term rise in prices of goods and services is perhaps inevitable. But there are several factors that could contain and counter this in the longer run. A decreased subsidy burden on the government will mean a reduced deficit and healthier public financing, exerting downward pressure on prices. And, crucially, by moving to deregulate transport fuels, the government has made competition viable. Private players unable to cope with an uneven playing field where the government mandated loss-inducing price levels, then underwrote public companies' deficits, will now have an incentive to re-enter the market. And an open market means competitive pricing and inducement for investment to bankroll both the breadth and quality of services, eventually benefiting consumers.

There are other non-quantifiable benefits as well. Exposure to price fluctuations in the international market could provide an incentive for energy efficiency and the development of alternative energy and clean technology that is lacking in the present protected economic environment. It could, in short, bring home the energy security and environmental concerns that are shaping discourse between the leading global economies today. And that is all to the good.

Questions remain, however. The government has left itself a back door of sorts by reserving the right to step in and insulate consumers if global price levels rise beyond a certain point. More specificity is needed here to prevent it from becoming an easy way out, to be employed when politically convenient. And while kitchen subsidies cannot and should not be wholly done away with for both political and socio-economic reasons, scope for price rationalisation in line with the Parikh committee recommendations remains. New Delhi has taken the crucial first step. Now it has to stay the course.

Our fluent English-speaking and computer savvy population have made India world’s favorite IT-BPO destination. But IT-BPO business can accommodate only a very insignificant percentage of our entire population. India must ensure its people have more ways of productive growth than just the IT-BPO industries. More sectors which can accommodate common Indians need to take off.

One of such promising sectors is ‘Sports’ which is so far relatively neglected (except cricket) in our country. Near-absence of sports commercialism has retarded India's sporting prospects. Sports commercialism can have very powerful positive impact towards nation’s growth because it can create numerous associations between sport and commerce including huge employment opportunity (as sports volunteers, trainers etc), infrastructure development, athlete welfare, sports advertisement, conduct of big sporting events and of-course glory for the country.

First, fiscal deficits do indeed matter. They matter less when a country has underperformed for so long that it has big catch-up possibilities that fuel growth, and this explains why India has not suffered like some other countries. Yet the taming of fiscal deficits and inflation in 2004-09 led to sharply reduced interest rates that were crucial in making India competitive in its 9% growth phase. The Fiscal Responsibility and Budget Management (FRBM) is a crude tool, yet did indeed help cut the fiscal deficit. The FRBM target of lowering the fiscal deficit to 3% of GDP is sensible in good times, leaving scope for expanding it to 6.5% in a recession without causing a Greek tragedy.

Second, Greece and Portugal have demonstrated that fiscal deficits in countries with structural problems can send the debt/GDP ratio skyrocketing without stoking growth. India has many structural problems despite having advantages too, and so should beware fiscal excesses.

Third, Greece has shown that a monetary union is a bad idea that leads to loss of control over exchange rates. So, India must shoot down proposals for an Asian monetary union.

If you look at the following assessment from Sumant Sinha, that looks quite probable:

For many years China has been growing rapidly. Its stock market has been among the best performing in the world. On the back of a deliberately cheap currency policy China's exports have swamped the world. It will shortly cross Japan to become the world's second largest economy. Per capita income has almost trebled in the last 10 years. Infrastructure has boomed and the country is unrecognisable to those who revisit it after a gap of afew years. In many sectors China adds capacity in a single year equivalent to India's cumulative installed capacity. It has become the world's largest consumer of many commodities (and the world's largest polluter). By any measure, these are phenomenal achievements.

And yet uneasy lies the crown. Much of the capacity that has been created is not being used. In sector after sector, there are excess capacities. The currency cannot be kept cheap forever and when it gets to realistic levels, it will surely impact the external sector negatively. Worryingly, the response of the government to the current crisis has been a further opening of the bank lendingpigot to create even more capacities. Economic growth cannot endlessly come from capacity creation. Chinese planners understand this and are now doing their best to ensure that consumer demand manifests sufficiently to absorb all the excess capacity, being created. But if this does not happen the banking sector will be left with a huge amount of non-performing and unproductive assets. Markets will go into a tail spin, the government will be forced to step in and things could well go out of control.